England and Wales Court of Appeal (Civil Division) Decisions

IN THE SUPREME COURT OF JUDICATURE
CIVIL DIVISION
ON APPEAL FROM THE HIGH COURT OF JUSTICE
CHANCERY DIVISION
BIRMINGHAM DISTRICT REGISTRY
(His Honour Judge Boggis)

		The Royal Courts of Justice The Strand London Thursday 17 January 2002

Thursday 17 January 2002

1. LADY JUSTICE ARDEN: This is an application for permission to appeal against the order of His Honour Judge Boggis QC dated 20 July 2001. By his order, the judge disqualified Mr Heath and Mr Palmer from acting as directors, or otherwise being involved in the management of the company, pursuant to the Company Directors Disqualification Act 1986. This application is for a second appeal because the application to His Honour Judge Boggis was itself an appeal from the district judge.
2. The applicants, Mr Heath and Mr Palmer, were both directors of Telford Insulations Limited ("TI") which was in a loose group of companies which was headed by another company called ESH. TI ran into financial difficulty. There is a finding by the district judge that the directors knew that it was insolvent on 14 October 1987.
3. On 12 August 1987 the directors were advised that they should consider a Company Voluntary Arrangement. Miss Williams, for the applicants, tells us that the evidence was that the directors had good reason for a lack of confidence in their advisors who had been responsible, in their view, for certain miscalculations. As a result, the directors changed their accountants and they took advice from a new advisor, who started the process of a financial review and, it is said, told them to raise a management charge in favour of ESH. For about six years, TI had had no administrative staff of its own and had paid a management charge to ESH, who had effectively provided staff and so on. After receiving that advice, the directors proceeded in August 1987 to authorise a management charge amounting to £10,000 per month from 1 August 1996 to 31 July 1997, and £25,000 for August and September 1997, and Value Added Tax. The total came to £176,250, which was paid on 14 August 1996.
4. At that time the company was hopeful of completing certain contracts. In particular there was what is called a Danish contract, which was due to be completed in the New Year, and the directors hoped that when that contract was completed the company would be paid and that TI would then be able to pay its creditors. The district judge says that they hoped then to be able to pay their creditors either wholly or to a significant extent.
5. However, matters did not turn out as they had hoped and on 18 May 1998 TI was wound up. It was then found to have a deficiency as regards creditors of £400,000.
6. Disqualification proceedings were brought. They came before the district judge, who asked whether there was any justification for the payment of management charge. He held that there was, because it did not exceed the monthly average paid in the previous two years. He reached that conclusion by first finding that the payments of management charges in the previous years had been broadly in accordance with the turnover, and then by looking at turnover in the previous two years and concluding that management charges had then been made of approximately £15,000. Accordingly he concluded that the management charge sought to be made from 1 October 1996 to 31 July 1997, and indeed for the later two months, was justified.
7. In other words, he found justification as a result of introducing an element of objective justification, rather than by looking to see what processes of thought and scrutiny the directors gave to it at the time.
8. The judge took the contrary approach. He held that the district judge had asked the correct question, but continued as follows:

"The correct way, in my view, is this: is there entitlement in favour of ESH or a liability upon Telford for [management] charges to be paid by Telford to ESH and if so does the amount exceed that entitlement and liability? In my judgment the district judge fell into error in answering that question affirmatively. The real position is that in August 1997 there was no clear debt due from TI to [ESH]. There was no contract between the two companies. There was no established basis for calculating the management charge. Apparently the charge was loosely based on turnover. It was apparently paid by monthly instalments with an annual balancing charge some time in August or September. In my judgment the payment of £176,000 odd cannot be reviewed long after the event by reference to what might be justified. At the time of payment there was simply no basis for the payment at all and this is confirmed by two pieces of evidence. First, Mr Heath wrote to say that there were no calculations and, secondly, Mr Palmer said that the management charge was more than adequate at £15,000 a month and this was only a method of transferring the cash over."

9. Thus the judge held that he had to look at what actually happened, and he therefore said that the payment could not be reviewed by reference to what might have been justified. At the time there was simply no basis for it. He then referred to two matters, the fact that Mr Heath's evidence was that there were no calculations and, secondly, that Mr Palmer had said that the management charge was adequate at £15,000 and that this was only a method of transferring the cash over.
10. Mr Palmer's evidence originated in a letter which he wrote to the Official Receiver in the hope of preventing the issue of disqualification proceedings. Indeed, in that letter, we are told, he suggested that the total charge was more than £15,000 per month. This was, of course, an error for the months from October to July. Nonetheless, the fact is that that letter was written and, even without the miscalculation, there was evidence from Mr Palmer that the management charge had simply been a method of transferring cash from a company, TI, which was in difficulty, to one which was not. It was convenient and possible to do that because the overdraft was obviously calculated on a group basis so that the payment could be made even though the company had reached its overdraft limits and could not make payments to other creditors.
11. The matter came before me on paper and on that occasion I refused the application. I had before me careful written submissions from Miss Williams essentially making two points, which I can summarise very briefly: that that judge had come to a different conclusion on the facts, and it was sufficient if the management charge could be objectively justified. In the reasons which I gave, I said that there was no real prospect of success:

"The essential issue was whether the conduct complained of in paragraphs 55 and 56 of the report of the Official Receivers constituted unfitness for the purposes of [the 1986 Act]. The alleged misconduct was the participation of the directors in raising and paying a management charge of £176,250 to an associated company at the time when the paying company was insolvent. The judge held there was no basis for this payment because it was not supported by calculations and because one of the directors stated that the management charge was more than adequate at £15,000 per month and was only a method of transferring cash over. The director was mistaken about the rate of management charge actually being paid. However, the crucial point was the fact that it was being paid at a time when the company was insolvent. The district judge, whose decision the judge reversed, did not ask whether the conduct amounted to unfitness, i.e. was not properly considered to be justified. Rather he asked whether the determination of the management charge was potentially capable of being justified. Nor did the district judge ask whether it was appropriate for the sum so determined to be paid at all. In those circumstances the judge was entitled to draw a different conclusion on appeal on the basis of the primary facts as found by the judge."

12. I then referred to a passage from the judgment of Dillon LJ in re Sevenoaks Stationers (Retail) Ltd [1991] Ch 164, 176.
13. I then dealt with two further points. I said there was no prospect of success in the argument that the charge was not excessive by reference to the previous year's management charge or that it was convenient to the group to pay it in order to reduce the group overdraft:

"The fact is that the directors did not properly consider whether the amount was justified and in so far as they considered the matter made the payment to further interests other than the best interests of the company."

14. In those circumstances the conditions for a second appeal were not, as I saw it, met.
15. On the renewed application that has come before my Lord and myself today, we have had the benefit of careful submissions by Miss Williams, and I would like to say that I have found her submissions economical and helpful, and directed to the points with which the court has to be concerned.
16. Her first submission was that the judge had come to a different conclusion on the basis of primary fact: that the judge had held that there was no contract, whereas the district judge had held that there was no written contract but that the management charge had always been calculated by reference to turnover (although Miss Williams properly accepted that she could not say whether or not this had been by reference to a percentage and whether that percentage had varied: in practice, she said, it had been £15,000 per month).
17. As to this point, the district judge did indeed say that the management charge was broadly in line with the turnover of the company, but the fact is that the directors themselves gave evidence (which is referred to in the district judge's judgment at paragraph 28) that they perhaps would not have understood it as a contractual matter and, further, that there was no formula agreed for calculating the cost of the services provided. If there was no formula agreed, it does not seem to me that there could have been a binding contract for the amount of the management charge. At most, it would be a question of some restitutionary liability on the part of the company to pay a reasonable amount for the services with which it was provided. In order to establish that reasonable amount, there would of course have to be some proper negotiation, some addressing of the issues on behalf of each company.
18. So, as I see it, there is no real prospect of success in that first point. It leads nowhere when it is analysed.
19. The second submission was that the judge held that the district judge had asked the right question and that that, therefore, should have led to the same conclusion as the district judge. But, as I see it, as I explained when I dealt with this application on paper, the judge took the approach, properly, that he had to ask not whether the management charge was capable of being justified, but whether what the directors actually did was misconduct which made them unfit to be directors. That required a review of what they actually did when they authorised and effected this transfer.
20. Miss Williams' third submission was that on a balance sheet basis the company may well have been insolvent but, in considering whether the directors were unfit, it was not unreasonable for them to have continued trading. The difficulty with this submission, as I see it, is that while it may be that the directors had a hope in the future that the company would be solvent, that was not assured. It was not certain that they would be able to pay all their creditors in full. They had had advice (albeit, it is said, on a mistaken basis) that they should have a Company Voluntary Arrangement. The position was that the company was insolvent when they authorised and paid this management charge.
21. In those circumstances, there must be a question as to whether it was proper to make the payment. It is said, of course, that other creditors could not be paid because the overdraft limit had been reached, but that does not justify making a payment when other creditors would not receive payment in full if the company were to be wound up. The fact of the matter is that the payment enabled the associated company to be paid in full and at the end of the day other creditors were not so paid.
22. That really leads to Miss Williams' fourth submission, that there was no allegation of preference but an allegation that the payment was in breach of duty. The simple fact is that if the payment had not been made, the company's assets would have been augmented by the sum of £176,000. There are a number of ways of putting the breach of duty point. There was a lack of a contractual basis but, as I have said, I am prepared to assume that there was a restitutionary basis for some payment. But there are at least three other points on which the conclusion of breach of duty can be reached: the lack of scrutiny by the directors of the amount; they paid it over without thinking of the interests of the creditors - they paid it over in order to ensure that the cash was in the other company's hands; and, lastly, they were doing this at a time when the company was insolvent, that is, other creditors would not be paid in full. They appear not to have considered those questions.
23. As I see it, there was ample basis on which the judge could have come to the conclusion which he did and despite, as I say, the very helpful and cogent submissions of Miss Williams, in my judgment there is no real prospect of success on an appeal.
24. LORD JUSTICE LATHAM: I agree. Accordingly this application for permission is refused.
ORDER: Application refused